The rabbit fanciers and tree huggers of Newport Beach may spend their days grinding out bond market total returns, but their heart belongs to John Maynard Keynes. The sepia image of old Dean Witter running a California bond house during a long bear market does not depress Bill Gross and Paul McCulley going forward. They are looking for new jobs now. In his most recent sermon Bill Gross puts it this way: ""Better early than never," I always say."
Then comes the talking point: "Economists, TV talking heads, (and yours truly) can be early or late to a party as well. I marvel at the seemingly countless number of "celebrity" experts espousing the continuation or even extension of wealthy tax cut, supply side, freer regulatory policies that have lost not only their potency but their constituency as we turn the corner into 2008. Describing these pundits as being "late" in recognizing the increasing threats that their laissez-faire ideology poses to the U.S. economy, would be more than generous. "Never" is more likely the reality."
Shocking, but the wealthy Bill Gross supports higher taxes on the wealthy--doubtless after locking up the best muni bonds PIMCO can buy--and demand side economics. And what will he advise doing with all the new federal tax money generated in 2009/12?
"To provide a stable recovery path, government spending needs to fill the gap – not consumption. Public works programs, badly needed infrastructure repairs, as well as spending on research and development projects should form the heart of our path to recovery. Assistance for homeowners? That too – figure out a fiscal/regulatory way to stop the slide in housing prices and foreclosures but please – no traffic jams at the Wal-Mart checkout counter in 2009 and beyond."
And this:"...the crucial task of future policy would be to bolster demand as was the case in the FDR-driven 1930s as opposed to encourage supply which has been the case since the Reagan revolution." Wow!
I gave this shocker the benefit of a good night's sleep in case I had read it wrong. And then, refreshed, I began to compute. Surely Gross is aware that the reason why FDR could inflate was that (real)interest rates were very, very high but falling. That's why it worked for Reagan too. And why is that? Because in those circumstances you can count on the banks, insurance companies, and wealthy and even average people to buy and hold long term Treasuries when they pay 10-16%. Then you can have your government use the proceeds to fund infrastructure and public works.
But interest rates are very low now, so unless we want to have a Japanese style depression, which is what Paul Krugman thought--wrongly--was going to happen in 1998, they (interest rates) are going higher now, not lower. That isn't going to encourage anyone to hold long term Treasuries. In fact quite the contrary. So Gross is playing games here for reasons that weren't clear to me at first. He is right to fear lower rates, but he's giving all the wrong reasons. One would expect him to fear higher rates more, as a bond salesman would naturally be supposed to. "Unclear on concept", as the late Herb Caen of the San Francisco Chronicle would say.
But in fact, the whole theory of Gross, and certainly of Krugman--I too have his silly book of 1998 on "The Return of Depression Economics", before he became the "anti-war correspondent" of the New York Times, and when he was still thought to be a decent economist-- is wrong because of what happened in the 1980's. In the 1930's new businesses could only start out with debt, which effectively meant bank loans. With interest rates so high, the government not only crowded out other borrowers but prevented anyone from making a profit on a new or old business. Treasury bonds were a far better investment than a new business. High bond rates delayed the recovery by promoting bonds. So government "had to" invest in infrastructure and public works to get things going.
In the 1980's in similar conditions, we saw that new companies did not need bank loans at high rates like in 1933. Nor did they need the government this time. They got venture capital from private sources who were looking for big new ideas that would pay far, far more than a 14% thirty year treasury bond ever could. So in the 1980's Uncle Sam didn't have to build a dam on every creek or build roads and buildings everywhere to mitigate unemployment as in the 1930's. Nor was infrastructure needed in an era of declining crude goods prices and declining rate of GDP like the 1930's. The whole tech and sales and finance revolution came out of venture capital when interest rates were high, not out of government work projects. Nor is there any evidence today that the venture capital revolution, assisted by low taxes, is dead. Alternative energy and so many other new industries are happening without any government input. Ummm, I think this was the basic idea of Adam Smith and of capitalism. The demand side economist essentially haven't a clue why "Reagonomics" worked. They may need to read Tom Sowell's "Say's Law" again. And Adam Smith.
Finally I re-read Gross's sermon yet again, and realized I had missed the crux of the whole sermon: "One economist, however, who while early is more than likely to guide future policy solutions is Paul Krugman, op-ed columnist for The New York Times." Ha! Gross has sold his management company, probably (must!) see the bond bear market coming with ramping price inflation, and wants a new job in 2009. The only problem is that his hoped-for boss comes out of the same department at Princeton that brought us Chairman Bear-hanky. Oh my!
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